Gordon Reid, president and CEO, Goodreid Investment Counsel

MARKET OUTLOOK:

The defining event for financial markets in the first quarter of 2023 was without a doubt the failure of a couple of U.S. regional banks and the resulting fear of contagion. After a few weeks of financial angst, the dust seems to have settled, but not without some likely lasting effects on the financial system and world economies. The core cause of this “financial accident” was the rapid, and some would say, heavy-handed action of central bankers who have increased interest rates in a very aggressive manner over a short time period.

In this environment, one bank in particular, Silicon Valley Bank, mismanaged its risk exposure, ultimately leading to a classic run on the bank by depositors. However, in 2023, a run on a bank is much different than it was a century ago, during the Great Depression. Digital access to deposits proved troublesome, exacerbating the psychological groupthink aspect of the phenomenon. The scarring effect of the banking failures will likely lead to greater regulation, regardless of whether regulation was the issue, and will certainly lead to greater caution by banks in the form of tighter lending standards. The result will be a slowing of economic growth, but as a positive effect, it will dampen inflationary pressures.

The banking failures overwhelmed other important influences on the financial markets and caused a ripple effect on related asset classes. Inflation is waning, but to some extent has been pushed off the front pages by the banking issues. Paradoxically, the bank issues may save the U.S. Federal Reserve from digging an even deeper hole by creating a pause in its tightening program. Most notable among the ancillary effects of the regional bank worries was a strong rally in the bond market. This occurred as interest rates fell sharply in anticipation of the Fed and other world central bankers taking a break from raising rates, and the probability of a recession increased. The trickle-down effect on equity markets was a surge in growth stocks, notably technology shares, which tend to rally at lower rates.

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TOP PICKS

Chubb (CB NYSE)

Latest Purchase April 2023 at $196

Chubb is the fourth largest insurer in the world and perhaps the best. Insurers make money in two ways, from their underwriting business which sports margins of over 10 per cent, and their investment book of mainly bonds, which benefit from higher rates. The stock has pulled back as recent credit worries and lower interest rates have pressured share prices. Buy on weakness.

Elevance Health (ELV NYSE)

Latest Purchase April 2023 at $481

Elevance, formerly named Anthem, is a managed care operator with 45 million members. The healthcare concern recently held an investor day, reaffirming long-term revenue expectations of 10 per cent+ and EPS growth of 12-15 per cent. This stock is trading at a P/E of 15X 2023 expectations, has a free cash flow yield of 5.7X and pays a dividend currently yielding 1.2 per cent.

Lear (LEA NYSE)

Latest Purchase November 2022 at $143

As a tier-one supplier of seating and electronic systems, LEA is the beneficiary of auto unit growth and expanding margins from electric cars. The company operates in 37 countries, with over 250 plants. Management estimates backlog to grow to $2.85 billion by 2025, with margins expanding from 4.7 per cent to 6.5 per cent.